Pitney Bowes: It's More Than A Value Trap

By Will Ashworth | March 01, 2012 AAA
Pitney Bowes (NYSE:PBI) announced its year-end earnings February 9. For the third consecutive year they declined from roughly $5.4 billion in 2010 to about $5.3 billion. According to the company, some customers are delaying new equipment purchases, which means revenues likely will decline this year as well. Following its announcement, the next 10 trading days through February 24 saw its stock price drop on six occasions. Its stock is now near its five-year low. Although many probably view Pitney Bowes as a horse and buggy company, doomed to the scrap heap of time, I see it as more than a value stock. Here's why.

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Dividend Aristocrat

Pitney Bowes was once again a Dividend Aristocrat in 2011. Since 1982 it has increased its annual dividend payout on 29 consecutive occasions at a compound annual growth rate of roughly 9.7%. Although most of this growth came prior to 2000, it appears committed to returning cash to shareholders regardless of the economic environment. In 2012, it intends to payout around $1.50 per share to shareholders. That's a yield of 8.3% based on its February 24 closing price of $18.

Most arguments suggesting Pitney Bowes is a value trap center on its extremely high yield. Detractors believe it's only a matter of time before its lack of growth comes back to bite it in the posterior region. Furthermore, this lack of growth when combined with a total debt of about $4.2 billion, makes it one of the S&P 500s top 10 shorted stocks. While I can appreciate these arguments, the reality is that Pitney Bowes isn't having a Kodak (OTCBB:EKDKQ) moment. Nowhere close. It has plenty of free cash flow to continue paying its dividend and with its shares down approximately 28% in the past year, hopefully management will use the remaining $50 million on its share repurchase authorization to buy back stock.

The Legacy Business

Pitney Bowes' North American and International mailing business accounted for approximately 51% of its overall revenue at $2.67 billion in 2011. What makes the segment so valuable is its 31% adjusted earnings before interest and taxes (EBIT) margin. Despite a 4% decrease in revenue for the legacy mailing businesses in 2011, it managed to increase its EBIT margin by 100 basis points and is now higher than it's been since 2008, when it hit 35%. In its Q4 conference call, CFO Michael Monahan indicated that both its North American and International mailing businesses have increased EBIT margins year-over-year in four consecutive quarters.

Since 2009, it has undergone a strategic transformation that's uncovered $300 million in annual savings. Long-term, Pitney Bowes is targeting revenue growth of 2 to 5% for its entire business, accompanied by adjusted EBIT growth of 6 to 8%. In 2012, it expects diluted earnings per share between $2.05 and $2.25 a share, which on an adjusted non-GAAP basis is slightly lower or the same as in 2011. This is due to growth coming from its lower margin enterprise businesses as well as higher costs associated with its pension and benefit plans. Whatever happens you can be sure it will have plenty for dividends.

SEE: How To Decode A Company's Earnings Reports.

Pitney Bowes and Peers

Company

EV/EBITDA

Yield

Pitney Bowes

6.6

8.30%

Automatic Data Processing (Nasdaq:ADP)

11.5

2.90%

Lexmark (NYSE:LXK)

3.1

2.70%

Xerox (NYSE:XRX)

5.9

2.00%

Stamps.com (Nasdaq:STMP)

18.5

N/A

Free Cash Flow

Investors generally like to see growth in free cash flow over a long period of time, say a decade. In Pitney Bowes case, free cash flow's remained relatively flat. In 2001, it was just under $780 million. In 2011, it was $764 million. In the past five years free cash flow has averaged $760 million. It might not be growing, but it's not shrinking either.

If you examine the free cash flow growth of the peers listed in the table above, you will see that they, too, haven't seen much growth in free cash. In fiscal 2002, ADP's free cash flow was nearly $1.3 billion. Approaching its fiscal 2012 year-end in June, its free cash flow for the trailing 12-months is almost $1.5 billion, an annual increase of just 1.4%. The same can be said about every one of the five companies, including Pitney Bowes. The point being that not many companies are like Apple (Nasdaq:AAPL) and go from negative free cash flow in 2002 to almost $38 billion today. The Pitney Bowes situation is rather normal. Furthermore, if you add back its $4.5 billion in stock repurchases over the years, its debt-to-capital ratio would be a healthy 52%. Pitney Bowes is stronger than you think.

The Bottom Line

If you're an income investor, I wouldn't hesitate to put money into Pitney Bowes. It might not have the upside potential of Apple, but it will provide you with good recurring income. Worst case scenario? Business gets worse and you have to sell. Best case? It gets better and Mr. Market realizes its stock is grossly undervalued. In either case, the dividend shouldn't be an issue.

SEE: Value Investing.

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At the time of writing, Will Ashworth did not own shares in any of the companies mentioned in this article.

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